Volatility Drives Opportunity

Opportunity surrounds us again! Analytic and sophisticated investors will source exceptional buying opportunities in equities and real estate in the near term. Our economic fundamentals are far stronger today than those present during the Fall 2008 and Spring 2009 financial crisis.

The volatility we are now navigating is not from a lack of economic confidence; it is one of a complete lack of political confidence. To quote Moody’s it is “the risk of political polarization and uncertainty that are among the drivers of our negative outlook”…on the USA and its debt.

I have spent the past 72 hours researching and reading to enhance my understanding of the current state of affairs, near term risks and opportunities. What I have learned is summarized below and, in general, very encouraging.

The cause of the Fall 2008 crisis was predominately driven by two melt downs:

The residential housing bubble finally collapsed deflating values by 25% – 40% depending on the region of the country.

Many of our financial institutions were under-capitalized and near a state collapse. Largely as a result of poorly underwritten residential mortgages.

Today, we have consolidated our financial institutions into larger and mainly healthier banks. The Federal Reserve has made access to capital both plentiful and affordable. The residential housing market remains unpredictable; however, new home building is nearly a zero in our GDP so clearly our industry is not poised for a collapse, the bottom is in!

I participated in a Goldman Sachs conference call yesterday where the Chief Investment Officer shared thoughts illustrating that our underlying real (or adjusted) GDP growth might be 3% v the recently reported 0.8%. Three phenomena seem to have constrained GDP from 3% to 0.8%. They were:

The disruption in global supply chains as a result of the Japan earthquake (.25%).

The increasing cost of oil which resulted in reduced consumer spending (1%).

USA government fiscal policy, or lack thereof (1%).

If we believe the above are somewhat temporary and political rhetoric can be channeled to fiscal responsibility, then we may see GDP increase in the second half of 2011 to over 2%.

With respect to residential real estate specifically in the San Francisco Bay Area, we are a largely supply constrained market. In the six counties we serve, only two counties really experienced over building in the pre-2007 housing boom. As a result, our inventories are manageable and not causing downward pressure on pricing.

In a conference call yesterday with our Management Team the following observations were made of this week’s market activities:

San Franciscostability seems to be present. Business as usual although light activity as expected in summer. Multiple new escrows in past few days mainly in $1.25 to $2.25 million range.

MarinHigh-end of market is still performing although summer slowdown is real. PUI is scheduled to close $45 million in August ’11. Six (6) deals currently pending to close in August ’11 over $2 million, one over $4.5 million – all buyers seem stable committed and feel values are still appropriate.

AlamedaGeneral market consensus is cautious but very active with appetite for additional inventory. Market needs additional inventory in the $750K – $1.2 million price range. Historically low mortgage rates are motivating buyers. Seems like a great time to be a seller!

Contra CostaStatus quo seems to be prevailing attitude. More new inventory this week than expected is a positive sign leading up to schools starting back up again. Distress sales (short sales, REOs and pre-foreclosure) still seem to generate multiple offers which confirms value-pricing is paramount!

Napa – High-end of market is on fire!! Since Saturday, PUI ratified both sides of a deal over $7 million, two deals at est. $2.4 million, two more at $1.2 and $1.9 million. We also represent two very active buyers over $10 million.

SonomaNo evidence of stress in the markets yet! PUI secured eight new listings last week and ratified eight new escrows between $400K – $1.495 million. Like Contra Costa County, historically low mortgage rates are motivating buyers. Seems like a great time to be a seller!

A few final observations shared by Goldman Sachs’ Chief Investment Officer today:

The average individual investor buys equities at or near the top when it seems most comfortable. This same investor generally exits the market at the sell-off or collapse when it is most uncomfortable. This is precisely the wrong investment strategy to follow. Now is the time to be a buyer!

Stocks and real estate are relatively “inexpensive” at present.

Investors should know we are in an environment of targeted low rates of return. Targeted returns for the next two – three years for example may be:

  • US Treasury Bonds: 2%
  • Real Estate: 3% – 4%
  • Equities: 6% – 7%

The likelihood of another recession is too pessimistic given the fundamentals described above. Our politicians have read a few recent headlines and hopefully they now feel the demand for fiscal responsibility. S&P and Moody’s have clearly stated the USA needs $4 – $6 trillion of budget reductions in next 10 – 14 years not the $2 trillion recently approved.

PUI will manage through the balance of summer with cautious optimism. As our children return to school we expect to see an increase in listing inventory and increasing units sold through Thanksgiving. If the IPO market opens again after Labor Day, we could see a significant increase in homes sold in the high-end markets.

Interest rates remain at historic lows (mortgages are “on-sale”) and real estate is relatively inexpensive. While many will retreat and wait for the comfort zone (near the next peak), now is the time to seek opportunity and buy!

We welcome your comments and questions during this volatile time. Hopefully our advice will assist in uncovering your opportunity!

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